Despite Inflation Woes India Outshines In Asia

When investors look towards emerging Asia, much of their attention shifts to China. After all, the nation is the 800-pound gorilla in the BRIC acronym, and the potential to tap into its billion plus residents with their increasing wealth is one the greatest growth stories going forward. Nonetheless, China's growth story has been well documented and has been underway for many years now. For investors looking for perhaps a stronger growth story in emerging Asia, BRIC middle-child India could offer some of the better long-term returns. An assortment of factors make the growing nation attractive, despite the nation's current inflationary woes and the recent market sell-off has opened the opportunity for investors to once again add the nation at cheaper prices.

A Better Option Than ChinaThe long-term promise for India is great. By 2013, analysts at Morgan Stanley believe that India's economy will grow faster than China's and is expected to bypass the United States by 2025. As improving demographics, structural reforms and globalization continue to take hold in the nation, India has seen above average GDP growth rates for quite some time. However, this growth has produced some unintended consequences. Inflation in India is the highest among the BRICS, rising to a 13-month high of 9.78%. India's central bank has raised interest rates by 3.5% since March 2010 and recently hiked rates for the 12th time. Overall, the $1.7 trillion Indian economy expanded 7.7% during the last versus a year earlier. This was the slowest pace since 2009 and could signal that the rate hikes have finally started to rein in inflation.

Despite the nation's inflationary pressures, there is a lot to like about India, including its growing middle class. The nation's middle class has grown from about 8% of the population in 1980 to about 33% now. This growth is creating a robust domestic market that is relatively shielded from any global softness. The current savings rate in India is around 35% of GDP and some analysts highlight that this will be India's greatest strength as the economy can domestically support itself in these times of economic cooling.

In addition, the nation is seeing vast improvements and growth in its infrastructure. Projects such as pollution and water systems, power plants, light railways and airports are now being constructed at a rapid pace. To attract outside infrastructure investments, India has begun relaxing rules that prevent foreign investors from buying corporate bonds used to fund these projects. The ceiling on foreign investment in these infrastructure bonds is being raised to $25 billion.

Stalking the Elephant With the latest rate hike, Indian equities have fallen towards their 52-week lows, but they now trade in line with their historical P/E of 18. While there could be some additional downward pressures on Indian equities, now could be a good time for investors to consider adding the nation to a portfolio. Both the PowerShares India (NYSE:PIN) and WisdomTree India Earnings (NYSE:EPI) are the two liquid funds that track the nation and can be used for a proxy. For investors looking for more of a discount on their Indian exposure, the close-ended India Fund (NYSE:IFN) currently trades at a 7.7% discount to its NAV.

The new middle class is creating vast opportunities for India's banking sector. Both ICICI Bank (NYSE:IBN) and HDFC Bank (NYSE:HDB) are some of the world's best run banks and offer a great way to tap this potential. Currently, less than 60% of Indian citizens have a bank account and less than 2% have access to credit, meaning there is plenty of future development ahead.

While many investors know about India's leadership in IT services via companies such as Wipro (WIT) and Infosys (INFY), the nation is also poised to become a leader in pharmaceuticals. Dr. Reddy's Laboratories (NYSE:RDY) manufactures a wide range of generic drugs and recently partnered with GlaxoSmithKline (NYSE:GSK) and Fujifilm (OTCBB:FUJIY)in which to help market its generic drugs in other emerging markets and Japan.

The Bottom Line Despite its inflationary pressures, India's strength and investment potential continue to grow. Overall, the nation represents a great long-term play and investors can reap the rewards by choosing ETFs or individual Indian equities like Tata Communications (NYSE:TCL). (For additional reading, take a look at The Indian Stock Market 101.)